Macro and Flows Update: July 2023 - e19

Summary

The video discusses market dynamics, highlighting the significant role of structured products in driving options supply and their impact on market volatility. It emphasizes the importance of understanding macro flows and liquidity models, and how they can influence market behavior. The speaker advises being adaptive and cautious, noting that while current market conditions may be favorable, they could change rapidly. The video also touches on the potential risks and opportunities in the market, urging investors to stay vigilant and prepared for market shifts.

Takeaways

• 📈 The B Supply has been well-maintained despite market declines, indicating a resilient market.
• 🔄 There was an expectation of increased market volatility and potential liquidations following June Opex, but this did not materialize as expected.
• 🚀 The market's reaction to the first week after June Opex led to a more constructive stance on markets, reversing previous short positions.
• 🎇 Holiday-induced buybacks and compressed market timing contributed to increased market support during the mentioned period.
• 💹 The increase in collateral due to a 6.5% market rise significantly boosts market liquidity, especially at the end and beginning of months.
• 📊 The short interest squeeze and positioning in tech names made it an unfavorable time to short the market, leading to a constructive stance.
• 🌪️ Market upswings and increased volatility are being observed, but without volume pinning, the sustainability of these trends is in question.
• 📉 The macro liquidity picture is concerning, with the Fed's actions and Treasury's shortened duration issuance impacting the need to refill the TGA.
• 🔄 There's a deviation in the historically strong correlation between liquidity flows and jobs, indicating a change in market dynamics.
• 📈 The market's upward movement and bullish sentiment indicate a potential topping process, but these signs are not fully conclusive.
• 🔄 The current market scenario is different from the 1970s due to the massive scale of options and derivatives issuance, which has a significant impact on V Supply.

Q & A

What was the state of the B Supply in June according to the video?

The B Supply in June was very well supplied despite the market decline of around 100 points, which was not enough to cause the liquidation that was expected.

Why was there a shift to being more constructive on the markets after the first week of June?

The shift to being more constructive on the markets was due to a combination of factors including holidays leading to significant amount of buyback and supportive flows underneath the market, as well as an increase in market liquidity due to the rise in collateral from the $40 trillion of US equities.

What does the term 'vona charm' refer to in the context of the video?

The term 'vona charm' is not explicitly defined in the video, but it seems to refer to certain market flows or dynamics that the speakers were monitoring, likely related to end of month/beginning of month financial activities.

What is the significance of the short squeeze mentioned in the video?

The short squeeze is significant because it indicates a high level of short interest in certain stocks, particularly tech names or high flyers. This can lead to increased buying pressure as short sellers are forced to buy back shares to cover their positions, potentially leading to a further rise in the stock prices.

What does the video suggest about market behavior around Opex?

The video suggests that there are typically strong market flows leading up to Opex, particularly in the week before and during the Monday and Wednesday of Opex. However, these flows tend to slow down after this period, shifting more towards charm flows.

What is the importance of the 20-day SMA and two standard deviation levels mentioned in the video?

The 20-day SMA (Simple Moving Average) and its two standard deviation levels are important technical indicators used to assess market momentum and potential overbought or oversold conditions. The video suggests using these levels to consider taking positions or making adjustments in market strategy.

How does the macro liquidity picture affect the market according to the video?

The macro liquidity picture is very important as it reflects natural flows coming in and out of the market. The video suggests that current liquidity models indicate a deviation from the strong correlation to liquidity flows that has been observed over the past seven years, which could signal a change in market dynamics.

What is the role of structured products in the current market environment?

Structured products play a significant role in the current market environment by providing an alternative to traditional stock and bond investments. They are tied to derivatives and can offer higher yields based on underlying interest rates, leading to increased issuance and impacting market behavior, particularly in pinning the S&P 500.

What does the video suggest about the potential for a market top?

The video suggests that there are signs of a potential market top forming, such as increased market volatility, bullish sentiment, and positioning changes. However, it also notes that these tops can be difficult to time and capture, as markets can stay irrational longer than expected.

What is the significance of the historical dispersion and correlation levels mentioned in the video?

The historical dispersion and correlation levels are significant as they indicate a deviation from the norm. The video mentions that the correlation of underlying constituents of the S&P was at a historically low level, which is unusual and could be related to the structured products and options market dynamics.

What does the video recommend in terms of investment strategy?

The video recommends being flexible and adaptive like water, going with the flows in constructive windows and taking appropriate positions when necessary. It also emphasizes the importance of understanding the structural realities of the market and having a multi-year outlook, despite potential short-term market squeezes.

Outlines

00:00

📈 Market Analysis and Supply Update

This paragraph discusses the state of the market in July, focusing on the supply situation. Despite expectations of market upticks and increased volatility, the VA Supply remained stable. The speaker mentions that the decline in the market did not lead to the anticipated liquidation. Various factors are considered, including holidays and their impact on market flows, the significant buyback of stocks, and the increase in market collateral due to a 6.5% monthly increase. The speaker advises on the importance of timing and positioning in the market, especially considering the end of month and beginning of month flows.

05:01

🌪️ Macro Liquidity and Market Dynamics

The speaker delves into the macro liquidity picture, highlighting the challenges posed by the Federal Reserve's actions and the Treasury's shortened duration of issuance. The discussion touches on liquidity models and their significance in understanding market flows. It is noted that there is a deviation from the strong correlation to liquidity flows, which has been present over the past seven years. The speaker also addresses the change in narrative and sentiment in the market, with banks increasing expectations and a more bullish outlook emerging. The paragraph concludes with a warning about the difficulty of capturing market upside and downside, especially towards the end of a cycle.

10:02

🔄 The Impact of Structured Products on Market Supply

This section focuses on the significant role of structured products in the market, particularly in relation to the supply of options and derivatives. The speaker explains how the issuance of structured products drives V Supply, as they involve writing options onto banks, which in turn hedge their positions in the options market. The result is a large amount of gamma and vega, which pins the S&P 500. The speaker discusses the historical dispersion and low correlation observed in the market, attributing these phenomena to the influence of structured products. The paragraph emphasizes the need for a change in structured product issuance for a shift in market dynamics to occur.

15:05

🚀 Market Outlook and Investment Strategy

The speaker concludes the video with a multi-year outlook on macro flows and equity markets, noting that while the situation appears unfavorable, opportunities for market squeezes can still arise over shorter periods. The importance of adaptability and timing in investment strategies is stressed, with the advice to be like water, flowing with market conditions. The speaker also cautions that the information provided should not be taken as investment advice and that investors should consult with their advisors to determine the suitability of any investment strategy based on their personal circumstances.

Keywords

💡B Supply

In the video transcript, 'B Supply' refers to the availability of certain financial assets or stocks in the market. The speaker mentions that despite a significant market decline, there was enough B Supply to prevent further market liquidation that they were hoping to see. This suggests that 'B Supply' relates to the resilience or robustness of market supply against fluctuations, crucial for understanding market dynamics and investor strategies mentioned in the video.

💡Opex

Opex in the context of the video refers to 'Options Expiration' - the date on which options contracts expire in the financial markets. The speaker discusses market behavior and strategic shifts around the time of quarterly Opex, highlighting its impact on market volatility and liquidity. This concept is central to the video as it influences trading decisions and market predictions discussed in the narrative.

💡unpinning

The term 'unpinning' used in the video appears to relate to the movement of stock prices away from a stable or pinned position, which can lead to increased volatility. The speaker expresses disappointment that there wasn't enough unpinning following a decline, indicating a desire for greater market movement to capitalize on. Understanding unpinning is important for grasping the discussed strategies for trading during periods of expected market volatility.

💡V Supply

V Supply likely refers to the volume of stocks or assets available in the market, similar to 'B Supply.' The speaker mentions V Supply in relation to market resilience during fluctuations. It's crucial for understanding market liquidity and the availability of assets for trading, directly impacting the trading strategies discussed in the video.

💡liquidity

Liquidity in financial terms refers to the ease with which assets can be bought or sold in the market without affecting their price. The video discusses the impact of liquidity on market conditions, particularly how increases in market liquidity can facilitate certain trading strategies. It's a fundamental concept for understanding the market dynamics and investment opportunities explored in the video.

💡Structural Flows

Structural flows refer to systematic and predictable financial movements influenced by structured financial products, market mechanisms, or regulations. In the video, the speaker discusses how these flows, particularly around Opex, influence market dynamics, affecting strategies for trading and investment. The concept is vital for understanding the broader financial landscape that shapes the market behaviors discussed.

💡V compression

V compression likely relates to volatility compression, a condition where market volatility decreases and remains low for a period. The speaker anticipates this condition to impact market support and strategy, especially in relation to market timing and liquidity. It's important for grasping how traders anticipate and react to changes in market volatility.

💡narrative change

Narrative change in the video refers to shifts in market sentiment and outlook among investors and analysts. The speaker points out that a narrative change is evident with increased bullishness, which can influence market movements and trading decisions. This concept is key to understanding how perceptions and expectations drive market dynamics.

💡short interest

Short interest refers to the quantity of stock shares that investors have sold short but not yet covered or closed out. The video discusses how changes in short interest, particularly squeezes, can impact market movements and trading strategies. This term is crucial for understanding the market's speculative aspects and how they influence investor behavior.

💡TGA

TGA refers to the Treasury General Account, which is the U.S. Treasury’s account used to manage the receipt and expenditure of public funds. In the video, the speaker discusses the impact of TGA's refilling on market liquidity, as it influences the cash available in the financial system. This is a key factor in understanding government's role in financial markets as discussed in the video.

Highlights

The B Supply has been very well supplied despite market downturns.

There was a vocal stance on the potential for market liquidation due to a decline of 100 points, but it did not materialize.

The market's response after the first week of June Opex indicated a shift towards reversing shorts and being more constructive on markets.

Holidays such as Juneteenth and July 4th contributed to a significant amount of buyback and supportive flows underneath the market.

The increase in market collateral by 6%, resulting in a $2.4 trillion dollar increase, dramatically increased market liquidity.

The narrative changed as positioning and sentiment started to turn more bullish, with banks increasing expectations.

The correlation between jobs and liquidity flows has been strong for the last seven years, but recent deviations suggest a change in the market dynamics.

The Federal Reserve and the Treasury shortened the duration of issuance to slow down the refilling of the Treasury General Account (TGA), affecting market liquidity.

The creation of derivatives and structured products has changed the dynamics of money flow between the stock and bond markets.

Structured products are driving V Supply, as they involve writing options onto banks, which in turn hedge their positions in the options markets.

The dispersion profit in 2017 was the highest in history, indicating a significant impact from structured products on the market.

The correlation of underlying constituents of the S&P 500 was at a historical low, highlighting the outlier status of the market conditions.

The market's structure has changed, with long call purchasing from the street and dealers experiencing shortfalls, leading to a massive unwind and push.

For V Supply to unpin, structured products need to roll off and other buyers need to come in, which is challenging due to the stickiness of the positions.

The potential for a significant market move to the upside is needed to drive people into more longfall strategies and create potential energy for a change.

The macro liquidity picture is very concerning, with implications for equity markets and investor strategies.

The video provides insights into market dynamics and investor strategies, emphasizing the importance of adaptability and understanding structural flows.

Transcripts

hello and welcome back to another macro

and flows update video

here we are in July uh and as we talked

about last month um the B Supply has

been very very well

supplied uh you know despite what we

were hoping to see is some unpinning

with some marketup volup like we had had

seen there going into uh the final

quarterly Opex in June uh as the market

came down we were very very vocal kind

of publicly about how that the VA Supply

despite the kind of 100 Point decline

that we saw over the course of week was

not enough uh unpinned to really have us

see kind of the liquidation that we we

were hoping uh might might be you know

the markets might be ready for um not

surprisingly uh the other reason that it

made sense to kind of uh reverse shorts

and and be more constructive on markets

after that first week after June

Opex was a couple things one we had uh

essentially three days within a a a

four-week period um of of holidays um

that's a significant amount of bana and

charm buyback uh supportive flows

underneath the market with v compressed

that we knew were coming both from

juneth um as well as the July 4th

holiday falling on a Tuesday um which

meant Monday was essentially off as well

that was a major acceleration important

in terms of timing as well because uh

right behind that after a six and a

half% month right we were going into end

of month beginning of month flows period

which we know historically especially in

upm months represents a major buyback of

uh of stock and reinvestment um based on

higher collateral what do we mean there

uh you know $40 trillion doar think

about that $40 trillion of us equities

alone never mind all the other assets

that are tied to it those $40 trillion

if they go up by 6% right that's a

$2.4 trillion doll increase in

collateral in the market and that

increases the amount of liquidity in the

market dramatically um and a lot of that

goes back to work at the end of the

month beginning of the month so up

months are very positive into end of

month beginning of month historically um

there are some um other uh

considerations obviously in terms of

risk parity other rebalances that other

people were focused on that was really

our primary focus there as well so

falling after that though you know

amidst those two holidays um and and the

increase liquidity given the amount of B

Supply pretty clear that that it was not

the time to kind of uh continue to short

after after a nice two and a half

percent gain there so that was um that

was the real uh the turn um not

surprising to hear after that as well

what do you get into that bonana charm

week we talk so much about that second

week before Opex where flows are the

strongest really into the Monday

Wednesday of Opex then they kind of slow

down until uh you know turn into more

charm flows but given the squeeze on

short interest that we've been seeing

uh you know the uh the issues we've been

you know seeing in terms of positioning

and particularly in the tech names the

amount of uh short ball that we're

seeing in in some of those highflyer um

names it was pretty clear that this was

not the time to kind of uh get out in

front of that so we've been constructive

uh out in front of those vona charm

flows those end of month beginning of

month flows and and that vona charm week

um but here we go again uh market up

ball up the last several days um you

know we're doing this video a little bit

earlier than usual so it's the the

Friday before Opex I usually we do it

about a week

later um but this is uh you know we

would expect that these flows continue

to be very supportive at least until

Wednesday morning um you know with the

with vix um vix bation coming up on that

day um and then uh you know you have to

start being a little bit more cautious

um but again uh 19th of jun July we

called this out as a potential week spot

uh 19th into the 21st uh would be uh

would be the windows to be particularly

um kind of start to to be a little less

aggressive on the long side and start

looking to potentially take shorts

especially if we continue to see market

up volup as we're starting to see and

the market continue to push that two

standard deviation up level of the

20-day SMA so those are very important

levels and things to think about in

terms of uh momentum and push um again

though if we can't see volum pinning um

these things can go longer than you

expect the markets can stay irrational

longer than we you know people can stay

insolvent you have to be like water as

we always preach you know you have to be

very very uh willing to go with the

flows in the windows where it's

constructive and then take your shots on

the other side when appropriate again

the macro liquidity picture though to

kind of circle back is very very ugly

they fed uh purposely knowing that the

TGA um was going to be have to be

refilled um shortened the duration and

not just the the FED but the treasury

shortened the duration of issuance they

drop the amount of issuance to slow it

down that doesn't stop the amount that

needs to be refilled in the TGA it just

extends it and slows it down liquidity

if you look at liquidity models which

are you know some people argue or

foolish um we very much believe that

those things matter um it it is a strong

representation of natural flows coming

in and the out of the market and it's

part of the equation not all the

equation but you are starting to see

jobs

a real deviation of what has otherwise

been a very very strong 0 N4 correlation

in the last uh seven years or so um so

very very strong correlation to

liquidity flows and those are turning

down and I've been aggressively turning

down there is a bit of a deviation those

happen for a while um they have they're

generally due to other structural flows

like we've talked about right uh that

that particularly um here with uh with

Opex um flows that we saw June into July

and again here going to July Opex and

the squeeze of short interest which has

been high until more recently but we are

now importantly to say seeing a

narrative change it is very clear across

the board we're seeing positioning

change sentiment is turning uh banks are

you know ratcheting up expectations as

they always do at the end of these

things um you seeing across the board

more bullishness um you know price uh

drives narrative uh it's not really the

other way around so this is what we've

been looking for we've been looking for

market up vop so we're starting to see

the clues and the things we have been

waiting for really since June and these

are good signs uh that that a a more

good signs depending on who you're

asking but you know good signs that a

more topping process is actually uh

coming these things though like I said

could stretch uh historically speaking

uh tops are formed um with with high

volatility with some of the biggest

moves coming at the end um and so it

makes it you know on purpose actually

reflexively U difficult to short it

makes it uh you know when the highest

gains are at the very end of a cycle um

before big uh structural decline those

are things that uh make it like I said

very hard to capture the upside for

people and also hard to capture the

downside um into that last part uh the

NASDAQ in 1999 in

2000 almost doubled right um in about

nine months so a significant sign ific

move I mean I think about a double

before declining more than 90% that's a

great example similar things in ' 07 um

you can talk again about uh you know the

two months uh after we learned about

covid in late December before um we saw

a final decline from Co of 30% in a

month these are the way things happen uh

V compression needs to bottom um and and

those are the things that we again we've

been looking for of all compression

floor so strike fall going up more uh

potential energy to the drop as the

market goes higher um and importantly

less shorts so the squeezing of shorts

the uh the changing of the narrative all

of those things are things that we have

been now beginning to see but are not

done yet we believe uh we are getting

close we will take a shot here again in

July as we mentioned but something to be

aware of one new thing that we haven't

talked enough about is V Supply and I

think there's a need to talk about this

in in great detail uh so that investors

um as well as potential investors really

understand um this is different than the

last inflationary period in the 70s in

some ways one of the most important ways

is in the pure size and scale and

issuance of options and

derivatives derivatives did not exist

largely in the 1970s put options alone

uh did not uh get list or traded until

the late 70s uh and definitely weren't

actively used till much later so there's

an important unique uh outco out you

know outcome here from derivatives um

historically money goes from the stock

market to the bond market when interest

rates go up so negative liquidity is not

just the problem it's a problem that

higher interest rates provide a reverse

Tina effect to flow into bonds and away

from

stocks however now with the is the

creation of derivatives and the and the

uh issuance of massive amounts of

Structured Products we are seeing

massive increases in structured product

issuance why because people are looking

at uh the realities of five% plus

underlying interest rates and the

ability to write Structured Products

above them so there's the ability for

example as a as a general example to go

out and write puts and calls a year out

20% out of the money and yield not just

the 5% but again yield step back and

then add another three and a half yield

something around 8 and a

half% um as long as the market doesn't

decline more than 20% as long as it

doesn't uh rally more than 20% you sit

in in a position to make eight and a

half percent a year and then after that

you you know going one to one short the

market above one to one La the market

above gives you a major cushion and in a

non-correlated way to be able to kind of

compound at eight and a half percent

sounds very appealing to people again an

alternative a non-correlated alternative

to stocks that people are doing instead

of just buying bonds

that movement into Structured Products

is having a significant impact we've

known ball suppli is very very strong

but we've been trying to uh get under

the hood over the last three months

really of what's driving the stickiness

to it and our our research shows that

it's primarily Structured Products

structured product issuance drives V

Supply because most of its writing

options onto Banks um which then have to

lay off that Vault Supply onto the

options markets on top of that they have

to hedge their long ball positions and

long game of positions so market makers

Banks dealers broadly are Laden with

massive amounts of gamma and V and this

is pinning the S&P 500 where all these

Structured Products are primarily um

based um we know this we can see the

effects of this not just in the pinning

of Vault broadly but in the massive

historical dispersion we are seeing 2017

was the highest um the highest level of

dis ersion profit um in history uh by

many measures so realiz ball itself was

at 30% lower than any other time in

history in 125 years of History we've

talked about that um but correlation was

also at 25% lower than any other time in

history the correlation of underlying

constituents of the S&P that was a

complete outlier until this year we are

now seeing something very similar

dispersion so the single list movement

uh the volatility of of those options uh

Rel those underlyings relative the

volatility of the index is at again a

historic breaking point and that is

driving immense profits um for people

who are playing that trade but again why

is that because the VA and the structure

products and everything tied to the S&P

is pinned that V Supply is incredibly

pinned while we still having major macro

um you know issues uh major uh major

lepto kurtic kind of underlying

liquidity flows and that's really

driving what we're see historic kind of

dispersion historic rotation that we've

seen in particularly into the short B

names uh like Nvidia and the these AI

names where there's a lot of long call

purchasing from the street and dealers

are shortfall so you have this massive

unwind and push that's happening as the

index is more pinned and uh these other

names are getting pushed now that can't

last forever but it can last much longer

than people expect because it's a

structured flow position it is these are

not uh the the supply of all is not weak

hands I would say entities that are are

selling this uh and that are very

concentrated in the market and that can

get blown out and have to cover or

dealers that will have to themselves

sell into it um who is short that ball

uh people who are taking on structured

product um issuance and that ultimately

is pretty sticky um what you need to see

is those structur products to kind of

roll off other buyers of all come in and

relieve that V Supply in order for this

to to uh you know for a a unpinning to

happen and that's difficult that's

difficult i' I've mentioned this ball

Supply in S&P as really the the one

thing that is kind of the uh that needs

that's going to be the hardest and the

last thing to change it usually is think

of it as the the the Dutch boy with his

thumb in the Dyke there's potential

energy building behind that damn lots of

liquidity um you know uh uh coming out

and creating uh more dangerous

situations The Narrative changing the

short long long to short interest the

short to Long interest turning all of

those things um are things we need to

see the problem is on pinning V and and

one of the best ways for that to happen

is to for big enough moves to the upside

upside to start to happen so they become

natural buyers of all as the market

slides to continually uh unsustainably

low implied VA and that's why the market

up volup piece is important one or two

days is not enough you need to see weeks

profitability that drives people into

more longfall strategies less shortfall

and also like I said creates the

potential energy um and narrative change

that that we you know and positioning

change from a long short side from a

Delta one side that can potentially

create a bigger ball and pinning so

that's what we're looking for hopefully

this was helpful again the macro flows

the structural realities of of where we

sit uh this is a multi-year Outlook um

very very bad for liquidity bad for

Equity markets but does not mean over

the course of months uh quarters that we

can't see continued squeezes uh you have

to be liquid you have to be like water

uh wishing you all the best here in July

uh and look forward to another one here

in August take

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